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The healthcare sector is the fourth-largest in the S&P 500 – a status that ensures it garners plenty of attention. Throw in the popularity of the various GLP-1 weight loss drugs in recent years, it’s safe to say the sector doesn’t lack for fanfare.
Indeed, GLP-1s have been boons for the makers of those drugs, but that bullishness hasn’t extended to the sector at large. Over the past three years, the S&P Select Sector Health Care Index gained just 8.6% while the S&P 500 gained more than 33%. During the same period, investors could have done more than twice as well as with lower risk utilities stocks.
Part of the issue confounding the sector is the increase in the number of Medicaid and Medicare recipients, which has limited profit potential. However, there’s signs of easing on those fronts.
“The number of people using government health programs like Medicaid and Medicare has increased from 43% in 2019 to 45% in 2023, which has limited how much healthcare providers can earn,” notes Stephanie Aliaga, global market strategist at JP Morgan Asset Management. “However, this trend is expected to improve in 2025 as the commercial segment rebounds and certain government subsidies end.”
Policy Clarity Could Help, Too
Few sectors are as politically sensitive as healthcare and that’s another reason why the group languished in recent years. The Biden Administration’s effort to give Medicare pricing power on some popular drugs was great for retired folks and that much should be acknowledged, but it wasn’t positive in financial market terms and to be fair, similar sentiment has been applied in the wake of President-elect Trump’s victory.
“The Pharma, Biotech, and Life Sciences industries have been among the worst performers since markets began pricing in a Trump victory last fall. The new administration is expected to push for lower drug prices, and changes in Medicare plans may add to challenges,” adds Aliaga.
She points out that peak uncertainty has probably come and gone. Another potential positive for the healthcare sector as it relates to politics is that the incoming Trump Administration is likely to loosen regulations and will almost certainly apply less scrutiny to mergers and acquisitions.
The point about the Federal Trade Commission (FTC) potentially being less of hurdle to healthcare consolidation is critical for investors because many blue-chip pharma companies are sitting on mounds of cash and facing patent expirations, meaning they could be eager buyers of higher-growth biotechnology companies. An M&A resurgence could be just what the doctor ordered for the long lagging biotech space.
“The industry is ripe for partnerships, and M&A activity is expected to increase in 2025 as companies have deleveraged from 2023 transactions and the patent cycle approaches,” said Aliaga.
Active Management Could Work
With the emergence of more specialty drugs and expectations that the weight-loss drug market is just scratching its surface, securities selection in healthcare could be critical this year, indicating active management could be the way for advisors to allocate to this space on behalf of clients.
There’s merit in that thesis because many index-based strategies, though cost-effective, are heavily allocated to patent- and pipeline-challenged companies.
“An active management approach with a keen understanding of the risks and opportunities in the space will still be crucial going forward,” concludes Aliaga. “The opportunity set is vast, and within-sector performance can vary significantly. Healthcare is the third-largest sector in the S&P 500, behind tech and financials, and the fifth-largest sector in the Russell Midcap. Notably, Eli Lilly has been the best-performing stock in the index, while Pfizer, once a leader in COVID vaccines, has seen its stock fall by over 50%.”